ASIC Enforcement Update: TWPI or Not? Incorrectly-Flagged Trades Will Cost You

Recently, the Australian Securities and Investments Commission (ASIC), the market integrity and conduct regulator in Australia, fined a local market participant (broker) heavily for failing to comply with Market Integrity Rule 6.1.1. Specifically, the broker reported a large number of trades done off-market as having price improvement, when in fact they did not.

Rule 6.1.1 stipulates that a market participant must execute trades on a transparent order book. One of the few exceptions to the Rule is for a ’Trade With Price Improvement’ (TWPI). This occurs where a broker can arrange a trade for a selling client at a higher price than the prevailing bid, or for a buying client, at a lower price than the prevailing offer. Trades With Price Improvement must be flagged as such and reported to the relevant market operator.

Consider the following example, from ASIC guidance: if, for a given security, across all venues the best (highest) available bid is $5.03 and the best (lowest) available offer is $5.06, then any transaction executed at a price step or mid-point between the bid and offer would qualify for the TWPI exception; hence trades executed at $5.04, $5.045 (being the midpoint) and $5.05 would qualify. Thus both buyer’s and seller’s executed prices would be improved, as compared to simply crossing the spread to trade.

The TWPI exception to Rule 6.1.1 exists to allow liquidity providers to try to improve investors’ outcomes by offering liquidity which might not be visible on the transparent order book. For example, the broker might also be a market maker, or might know another client with the opposing interest which might be willing to take the opposite side of a trade.

According to ASIC, a TWPI can only occur at a price within the spread, and not at a price at, outside or beyond the spread. Therefore, a trade executed at the prevailing best bid or offer price on the order book would not qualify as a TWPI exception, and would have to be done through the order book.

ASIC also requires market participants to notify relevant market operators of all TWPI transactions so that the details of the trade (including volumes, prices and times) are included in market data.

In this case, the broker executed the high volume of trades away from the order book over a three-week period; the trades were flagged as TWPI and reported to the relevant market operators. The problem arose when, during a review, ASIC found that the trades had not been executed with price improvement, contrary to their TWPI designation.

ASIC did not find the firm’s misconduct to be intentional, but indicated greater care is needed in correctly reporting such trades. As the trades were not actually TWPI, they should have been routed to the transparent order books for execution. ASIC also expressed the need for firms to have adequate controls and systems in place, given that the breaches in this case had gone undetected for over a long time before ASIC’s review.

Through this very public reprimand and large fine, ASIC is signalling that it takes any breach of the Market Integrity Rules seriously, even if it’s inadvertent.

So what could the brokerage firm in this scenario have done differently to avoid the fine and repudiation? It’s clear that they should not have attached the TWPI flag to the trades in question. But is there something more they could have done?

Surveillance is another tact that firms can employ in such situations. In the world of financial services, regulations and business risks are constantly evolving. With the addition of self-service analytics, firms are able to rapidly create, test and deploy custom analytic risk detection models geared toward these very questions, but tailored to their individual business needs.

For example, in this case, through the use of self-service analytics, the surveillance system could be configured to detect when a trade is incorrectly flagged as TWPI, and when it should have been routed to the transparent order book instead.

The key take-away here is that when it comes to market integrity, ASIC is taking a no-excuses approach to the rules. This means that as a market participant, you need to take a no-excuses approach too. It’s incumbent on your firm to have adequate and appropriate systems and controls in place.

Interested in learning how NICE Actimize can put your compliance team on the path to complying with regulatory requirements? Contact us here or reach out to me at paul.cottee@nice.com.